For many income-seeking investors, the main criteria when buying a stock is the level of its current yield. In other words, the level of income paid in the short run is often the most important factor. And, while such a focus is a great place to start, there are a number of other key aspects to income investing that could make all the difference between having an early, comfortable retirement, and not.
In fact, for long-term investors the rate of dividend growth may matter much more than a headline yield. For example, if a stock yields 5% at the present time then many people may feel that it is a better income prospect that a stock which yields 4%. In the short run, that is most definitely the case, but if the higher yielding stock grows dividends per share by just 2% per annum then in ten years' time it will be yielding 5.98%. However, if the lower yielding stock grows dividends by 10% per annum then by the end of the 10 years it will yield 9.43%. As a result, faster dividend growth stocks may be the best option for long-term income seekers.
Two stocks that have the potential to increase dividends at a rapid rate are QBE Insurance Group Ltd (ASX: QBE) and Coca-Cola Amatil Ltd (ASX: CCL). In the case of the former, its refreshed strategy of asset disposals is leaving a much more focused, efficient and profitable business that continues to see investor sentiment improve. And, with its share price having risen by 26% since the turn of the year, QBE now yields 3.4%, which is less than the ASX's yield of 4.6%.
However, with QBE being forecast to post stunning gains in profitability over the next couple of years, it is expected to increase dividends per share at an annualised rate of over 18% in the next two years. This puts QBE on a forward yield of 4.5% and, with its payout ratio forecast to be just 58% next year, there is vast scope for further double-digit dividend growth over the medium to long term. And, with a price to earnings growth (PEG) ratio of just 0.66, it appears to offer better value than the ASX, which has a PEG ratio of 1.37.
Similarly, Coca-Cola Amatil appears to have excellent dividend growth potential, with its turnaround plan set to stimulate bottom line growth over the medium term. Its focus on cost cutting, product diversity and increasing its exposure to fast-growing territories in Asia should mean that dividends grow at an annualised rate of 3.5% during the next two years.
This rate of growth puts Coca-Cola Amatil on a forward yield of 4.9% and, with dividends being covered 1.2 times by profit, there appears to be sufficient headroom for the company to raise dividends at a similar rate to profit growth over the medium term. And, with Coca-Cola Amatil trading at a discount to the wider food, beverage and tobacco sector on a price to earnings (P/E) ratio of 18.2 versus 19.7 for the wider industry, it appears to offer good relative value as well as bright income prospects.
